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A Manifesto for Economic Sense

More than four years after the financial crisis began, the world's major advanced economies remain deeply depressed, in a scene all too reminiscent of the 1930s. And the reason is simple: we are relying on the same ideas that governed policy in the 1930s. These ideas, long since disproved, involve profound errors both about the causes of the crisis, its nature, and the appropriate response.

These errors have taken deep root in public consciousness and provide the public support for the excessive austerity of current fiscal policies in many countries. So the time is ripe for a Manifesto in which mainstream economists offer the public a more evidence-based analysis of our problems.

  • The causes. Many policy makers insist that the crisis was caused by irresponsible public borrowing. With very few exceptions - other than Greece - this is false. Instead, the conditions for crisis were created by excessive private sector borrowing and lending, including by over-leveraged banks. The collapse of this bubble led to massive falls in output and thus in tax revenue. So the large government deficits we see today are a consequence of the crisis, not its cause.
  • The nature of the crisis. When real estate bubbles on both sides of the Atlantic burst, many parts of the private sector slashed spending in an attempt to pay down past debts. This was a rational response on the part of individuals, but - just like the similar response of debtors in the 1930s - it has proved collectively self-defeating, because one person's spending is another person's income. The result of the spending collapse has been an economic depression that has worsened the public debt.
  • The appropriate response. At a time when the private sector is engaged in a collective effort to spend less, public policy should act as a stabilizing force, attempting to sustain spending. At the very least we should not be making things worse by big cuts in government spending or big increases in tax rates on ordinary people. Unfortunately, that's exactly what many governments are now doing.
  • The big mistake. After responding well in the first, acute phase of the economic crisis, conventional policy wisdom took a wrong turn - focusing on government deficits, which are mainly the result of a crisis-induced plunge in revenue, and arguing that the public sector should attempt to reduce its debts in tandem with the private sector. As a result, instead of playing a stabilizing role, fiscal policy has ended up reinforcing and exacerbating the dampening effects of private-sector spending cuts.

In the face of a less severe shock, monetary policy could take up the slack. But with interest rates close to zero, monetary policy - while it should do all it can - cannot do the whole job. There must of course be a medium-term plan for reducing the government deficit. But if this is too front-loaded it can easily be self-defeating by aborting the recovery. A key priority now is to reduce unemployment, before it becomes endemic, making recovery and future deficit reduction even more difficult.

How do those who support present policies answer the argument we have just made? They use two quite different arguments in support of their case.

The confidence argument. Their first argument is that government deficits will raise interest rates and thus prevent recovery. By contrast, they argue, austerity will increase confidence and thus encourage recovery.

But there is no evidence at all in favour of this argument. First, despite exceptionally high deficits, interest rates today are unprecedentedly low in all major countries where there is a normally functioning central bank. This is true even in Japan where the government debt now exceeds 200% of annual GDP; and past downgrades by the rating agencies here have had no effect on Japanese interest rates. Interest rates are only high in some Euro countries, because the ECB is not allowed to act as lender of last resort to the government. Elsewhere the central bank can always, if needed, fund the deficit, leaving the bond market unaffected.

Moreover past experience includes no relevant case where budget cuts have actually generated increased economic activity. The IMF has studied 173 cases of budget cuts in individual countries and found that the consistent result is economic contraction. In the handful of cases in which fiscal consolidation was followed by growth, the main channels were a currency depreciation against a strong world market, not a current possibility. The lesson of the IMF's study is clear - budget cuts retard recovery. And that is what is happening now - the countries with the biggest budget cuts have experienced the biggest falls in output.

For the truth is, as we can now see, that budget cuts do not inspire business confidence. Companies will only invest when they can foresee enough customers with enough income to spend. Austerity discourages investment.

So there is massive evidence against the confidence argument; all the alleged evidence in favor of the doctrine has evaporated on closer examination.

The structural argument. A second argument against expanding demand is that output is in fact constrained on the supply side - by structural imbalances. If this theory were right, however, at least some parts of our economies ought to be at full stretch, and so should some occupations. But in most countries that is just not the case. Every major sector of our economies is struggling, and every occupation has higher unemployment than usual. So the problem must be a general lack of spending and demand.

In the 1930s the same structural argument was used against proactive spending policies in the U.S. But as spending rose between 1940 and 1942, output rose by 20%. So the problem in the 1930s, as now, was a shortage of demand not of supply.

As a result of their mistaken ideas, many Western policy-makers are inflicting massive suffering on their peoples. But the ideas they espouse about how to handle recessions were rejected by nearly all economists after the disasters of the 1930s, and for the following forty years or so the West enjoyed an unparalleled period of economic stability and low unemployment. It is tragic that in recent years the old ideas have again taken root. But we can no longer accept a situation where mistaken fears of higher interest rates weigh more highly with policy-makers than the horrors of mass unemployment.

Better policies will differ between countries and need detailed debate. But they must be based on a correct analysis of the problem. We therefore urge all economists and others who agree with the broad thrust of this Manifesto to register their agreement at, and to publically argue the case for a sounder approach. The whole world suffers when men and women are silent about what they know is wrong.

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Signed By

Aaron Goldzimer - Stanford Graduate School of Business / Yale Law School
Alan Manning - London School of Economics
Alan Maynard - University of York
Alan S. Blinder - Princeton University
Alasdair Smith - University of Sussex
Alfonso Lasso de la Vega - Former Deputy Director in UNCTAD
Ali Rattansi - Professor, City University, London
Andrew Graham - Oxford University
Barbara Petrongolo - Queen Mary University and CEP (LSE)
Barbara Wolfe - University of Wisconsin-Madison
Barry Bluestone - Northeastern University
Barry Supple - University of Cambridge
Charles Wyplosz - The Graduate Institute, Geneva
Chris Pissarides - London School of Economics and Political Science
Christian Kroll - University of Bremen / Jacobs University
Christopher Allsopp - Director, Oxford Insitute for Energy Studies, Oxford
Colin Thain - University of Birmingham, UK
David Blanchflower - Dartmouth College
David Hemenway, economist - Harvard School of Public Health
David Sapsford - Edward Gonner Professor of Applied Economics (Emeritus), University of Liverpool
David Soskice - University of Oxford
David Vines - Oxford University
Demetrios Papathanasiou - The World Bank
Donald R. Davis - Columbia University, Dept. of Economics
Eric van Wincoop - University of Virginia
Erzo F.P. Luttmer - Dartmouth College
G C Harcourt - University of New South Wales, School of Economics
Gary Mongiovi - St Johns University, New York
Geoffrey M. Hodgson - Professor, University of Hertfordshire, UK
Geraint Johnes - Lancaster University
Gianni Zanini - World Bank (Consultant; former Lead Economist)
Hannes Schwandt - CEP/LSE and Universitat Pompeu Fabra
Heinz Kurz - University of Graz, Austria
J. Bradford DeLong - U.C. Berkeley
Jan-Emmanuel De Neve - University College London & LSE Centre for Economic Performance
Jeffrey Frankel - Harvard University
Jeremy Hardie - LSE Centre for Philosophy of Natural and Social Science
Joan Costa Font - London Sschool of Economics
Jocelyn Boussard - European Commission
John H Bishop - Cornell University
John Van Reenen - Centre for Economic Performance, LSE
Jonathan Portes - National Institute of Economic and Social Research
Joseph Gagnon - Peterson Institute for International Economics
Justin Wolfers - Princeton University
Kalim Siddiqui - Business School, University of Huddersfield, UK
Ken Coutts - Faculty of Economics, University of Cambridge
Kevin ORourke - University of Oxford
Larry L Duetsch - Emeritus Prof of Econ, U of Wisconsin - Parkside
Lesley Potters - European Commission
Marcus Miller - Warwick University
Mariana Mazzucato - University of Sussex
Mark Setterfield - Trinity College, Connecticut
Mark Stewart - Warwick University
Max Steuer - London School of Economics
Michael Ambrosi - Professor Emeritus, University of Trier
Michael Graff - ETH Zurich and Jacobs University Bremen
Michael Waterson - University of Warwick
Nathan Cutler - Harvard Kennedy School
Nattavudh Powdthavee - University of Melbourne and Centre for Economic Performance, London School of Economics and Political Sciences
Nicholas Rau - University College London
Olaf Storbeck - Handelsblatt - Germanys Business and Financial Daily
Oriana Bandiera - London School of Economics
P.E. - Emeritus Professor of Economics,University of Reading
Patricia Rice - University of Oxford
Paul Anand - Open University/ HERC Oxford University
Paul Gregg - Professor, Dept of Social and Policy Sciences, University of Bath
Paul Krugman - Princeton University
Peter E. Earl - University of Queensland
Peter Elias - University of Warwick
Peter J. Hammond - University of Warwick
Peter Taylor-Gooby - University of Kent
Peter Temin - MIT
Philip Arestis - University of Cambridge
Philippe Martin - sciences po (paris)
Professor Paul Whiteley - University of Essex
Professor Sir Richard Jolly - Institute of Development Studies
Raffaella Sadun - Harvard Business School
Raja Junankar - University of New South Wales, University of Western Sydney, and IZA
Raquel Fernandez - NYU
Richard J. Smith - Faculty of Economics University of Cambridge
Richard Jackman - London School of Economics
Richard Layard - LSE Centre for Economic Performance
Richard Murray - former chief economist, Swedish Agency for Public Management
Richard Parker - Harvard University
Rick van der Ploeg - University of Oxford
Robert A. Feldman - IMF and Adjunct Professor Georgetown U. (retired)
Robert H. Frank - Cornell University
Robert Haveman - University of Wisconsin-Madison
Robert Neild - Emeritus Professor,Trinity College, Cambridge
Robert Pollack - Boston University
Robert Skidelsky - Wawick University
Roger Middleton - University of Bristol
Roger Stephen Crisp - St Annes College, Oxford
Ronald Schettkat - Schumpeter School, University of Wuppertal
Sergio Rossi - Department of Economics, University of Fribourg, Switzerland
Shaun P. Hargreaves Heap - University of East Anglia
Sheila Dow - University of Stirling (emeritus position)
Simon Wren-Lewis - Oxford University
Stefan Szymanski - University of Michigan
Stephen E. Spear - Carnegie Mellon University
Stephen Gibbons - London School of Economics
Susan Himmelweit - The Open University, UK
Terry Barker - University of Cambridge
Tony Venables - University of Oxford
Victor Halberstadt - Leiden University
Wendy Carlin - UCL
William Brown - University of Cambridge
William T. Dickens - Northeastern University and The Brookings Institution


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Recent Comments

  • I have watched for 22 years "Demand" reduce , i am not an economist ,I am one of those people who contribute to the data ,In my state (NJ) there are only a handful of independent bedding stores left ,I am one of them , is that enough credibility for this statement ?
    Anthony Benyola
  • We need to start learning from our experience, and the first step is a perspective shift - from a narrow individualistic view towards collective, yet smart and filled with sense. Though it is a long way to actual action, taking a look will only do us all better.
    Alexander Romanov
  • Economists and well-informed politicians know that a balanced budget expansion has an expansionary effect on aggregate demand. If this is achieved through taxes on CO2 and investments in sustainable energy production, public transportation, housing insulation etc., it will help to combat global warming and unemployment in one stroke. That is my recommendation.
    Richard Murray
  • The debate definitely needs a sound economic foundation. But, the next question is: what is preventing the policymakers from recognizing the widely-agreed economic principles?
    Nitika Bagaria
  • Its about time for a petition! The US has about 20 million people unemployed or under-employed, all due to stupidity or arrogance. Economists have a duty to stand up and point this out.
    Fred Wells
  • The world is running carelessly on credit/major risk taking. As a general citizen we are always advised to not get into debt & not waste money or make extreme risks. What are these financial leaders doing breaking all of these rules? We should not get into debt for warfare that is not our own problem, we should not be bailing out banks. The banksters have a crazy monopoly, how is it that they have been allowed to make the most profit ever this year (corporations), while the entire world suffers. What about Glass-Steagall? This would protect us and help us build our economy back up or else the entire globe is headed for financial doom, riots, homeless people, businesses bankrupt etc etc ... is this what the Government wants? Put someone in power that has some sense. I have a degree, but there are no jobs ... get the country back on its feet so businesses can thrive instead of dive!
    Yolanda Goddard
  • This manifesto rightly notes that current UK economic policy is built on the basis of outdated dogma. The people deserve a more rational discussion that doesn suggest that the economics of a country are anything other than tenuously similar to that of a working familys household budget.
    Phil Potter
  • Hopefully this will be the beginning of a movement towards a commonsense, prudent, Keynesian approach to solving the worlds economic dilemmas. Hold the risk-taking banks accountable, show compassion for those suffering the consequences of the trend toward a deeply unjust distribution of wealth.
    Suzanne Dyer
  • I am an economics editor in a newspaper myself and I think that we need this kind of new thinking and we need it badly!
    Jaakko Wallenius
  • I hope someone is listening.
    Laurence Krause
  • The biggest problem of those economists that support the mass austerity is that they are in love with their mathematical models (the elegance of them, the mathematical beauty, the straight answers). What they forget (as most are not mathematicians) is that the models are just sketches, the simplicity is due to our inability (or ignorance) of solving more complex ones, and the straight answers are driven from non-written suppositions. The models are useful (heck, I use them in my research), but only when people are aware of the shortcomings, and most of todays young economists just see the advantages, not the problems. PS: Mathematically is simpler to model the aggregate supply than is to model aggregate demand, so probably that is the reason why people are focusing so much on the supply side.
    Pedro André Cerqueira
  • I chair this organisation which has members in 13 European countries. I am a retired teacher of economics and politics who has been presenting exactly the same arguments as in this article. I wish be active in presenting conferences on these lines. Alan Frommer
  • All that I would ask is that we make policies based on evidence and not simply to achieve our political ends.
    Jeffrey Forrest
  • A flexible, free, private, mobile workforce has demonstrated its efficacy for employee and employer and thus governments role must be to enable, maintain, create, when necessary, an adequate demand for employment.
    Jim Ingram
  • I am not an economist, but I can read. Perhaps perhaps,in addition to greed and the quest for power, deficits in literacy and critical thinking are the underlying problem. Ill try to help...good luck.
    William T. Brune
  • I am unemployed in spite of holding a 2/1 honours degree. Am embarking a masters course on the hope this will reverse my fortunes. You e so right Paul, there is no reason why youth unemployment should be so high with such an educated workforce. Im fully behind your campaign to change government economic policy which is quite frankly folly.
    Tony Richards
  • "Those who cannot remember the past are condemned to repeat it." - George Santayana, in his Reason in Common Sense I agree the time has come to speak out for common sense and economic sense.
    Richard W. Harris
  • We all have to try to change the rules of economic trade all around the world, therefore international policies must have to change too.
  • Good to see some common sense . Economies would do well to follow it although experience so far suggest it will be hard to shift approach given that austerity is an approach taken by the rich and powerful at the expense of the poor, disadvantaged and powerless
    Michael Ellis
  • I agree in all respects, but you let central banks off too easily. Perhaps they cannot fix our problems entirely by themselves, but they can do a lot more even without cooperation from fiscal authorities.
    Joseph Gagnon